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Transaction costs in garment industry - I
M K Panthaki
The garment industry of India is principally in the
small-scale sector (SSI). Almost 80 per cent of the industry belongs to this
sector. As per definition of an industry in SSI, investment in plant and machinery
has to below Rs 1 crore. This definition was hurting garment exports since it
came in the way of expansion and modernisation (for fear of breaching the financial
limit) to achieve economies of scale and to become cost-competitive. In view
of this, the industry lobbied for removal of the garment sector from the definition
of SSI or alternatively to increase the SSI limit to an extent where modernisation
would not be hampered.
While delivering his Budget speech in February 2000,
the finance minister de-regulated the woven garment sector from SSI. However,
the knitted garment sector continued to be hamstrung by financial limits. This
sector has made rapid strides since 1998 and overtaken the woven garment sector
in terms of the volume of production. This sector too has the potential to increase
forex earnings of the country. In view of this, persistent lobbing by the industry,
the government gave relief to the knitted garment sector in October 2001 by
increasing the financial limit from Rs 1 crore to Rs 5 crore. Since then the
knitted garment sector has never looked back and taken full advantage of modernisation
under the Technology Upgradation Fund Scheme (TUFS) of the government.
Despite the above developments, the bulk of the industry
consists of units having less than 10 machines per unit and are handicapped
financially in modernisation of their units. Such units suffer from four major
handicaps. Since most of the units are in leased/rented premises, they cannot
offer collateral to banks. Since most of these units are proprietary/partnership
with the business passing on by heredity, they do not have the ability to prepare
project report for modernisation to be presented to banks. They are not in a
position to come forward with 20/25 per cent of owner’s capital which is
insisted upon by banks. Banks prefer to lend to either the organised sector
or to corporate units for a healthy portfolio and a "feel-safe" position
despite the fact that past experience has shown that almost 95 to 96 per cent
of loans to the SSI sector are repaid on time and that banks hardly have any
NPAs from this sector. The larger units, on the other hand, are able to convince
the banks for loans on the strength of their balance sheets and modernised equipment
as well as spate of export orders on hand. It also cannot be overlooked that
quite a few of these big units are in joint venture with foreign entrepreneurs
which give them further credibility with banks.
Financial assistance to the SSI sector
Keeping in view the above handicaps faced by the SSI
sector in modernisation, the government has now come forward with a corpus of
Rs 500 crore, of which Rs 400 crore has been contributed by the government and
the balance Rs 100 crore has been from the Small Industries Development Bank
of India (SIDBI)). This corpus administered under the Credit Guarantee Fund
Scheme (CGFS) introduced by the government as far back as in the year 2000,
but has made very slow progress. Initially, this scheme was meant for loans
exceeding to amount below Rs 5 lakh. Under CGFS, the government guarantees 75
per cent of the loan amount and the condition of collateral security is waived.
The earlier RBI circular to banks for insisting on collaterals upto Rs 5 lakh
will be withdrawn and superseded by CGFS.
In a further effort to fund SSI units, RBI has asked
commercial banks to increase their exposure to SSI units in proportion to the
incremental increase in their deposits and to adhere to the norm of 2 per cent
above or below the prime lending rate (PLR) for lending to the SSI sector.
Under this scheme, 34 lending firms including State
Bank of India and its three subsidiaries, along wth a number of private lending
banks, as well as a Regional Financial Institution from North-East (NEFDI) as
well as National Small Industries Corporation (NSIC) have already become member
lending institutions under this scheme.
The above development should enable SSI units to breathe
easy. It should go a long way in enabling them to obtain finance for modernisation
and for upgrading technology. It will help SSI units play a much larger role
than at present both in the domestic and export sectors by reducing unit costs
and improving quality of their garments. It cannot be overlooked that Post-2004,
there will not be any distinction between export and domestic sectors, more
so with the influx of imported garments. Such of those currently catering to
the domestic sector at low prices cannot rest under the smug feeling that their
low prices will assure them of survival since consumer demand itself will veer
increasingly towards quality irrespective of the price. Such units, if they
do not avail themselves of this facility will eventually have to come to grief.
A recent development is the interest shown by ICICI
Bank (retail market division) to lend to garment units. It is hoped that they
will start operations by catering to the SSI sector rather than to large units
since the latter, in any case, have no dearth of lenders.
High interest charges on borrowed funds
As of now, interest rates charged by banks do not provide
for any difference between small and large units - if anything, banks tend to
be wary and are inclined to a higher rate for SSI sector. It is hoped that banks
get over this antipathy particularly in relation to the RBI ruling stated above.
Prime lending rate itself varies from bank to bank but, at present, does not
exceed 11 per cent. Going by the RBI norms stated above, banks will lend funds
at rates varying between 8.5 per cent and a maximum of 13.5 per cent, depending
on banker-customer relationship. For prime borrowers, this could well be around
8 per cent. By and large, the prime borrowers will be those in the medium and
large sectors towards which banks are naturally inclined.
At any rate, even at the minimum level of 8.5 per cent,
exporters find it difficult to compete with countries like China where interest
rate are 6 per cent on working capital and 6.5 per cent on tem loans for 12
months and over.
Transaction costs
In addition to high interest rates on borrowed capital,
transaction costs cover inter alia -- i) Delays at customs port on clearing
import cargo for export production under one pretext or the other ii) Delays
in obtaining refunds in the shape of Drawback/DEFP licences against shipments
already effected and exchange realised iii) Delays in obtaining advance licences
on the basis of Standard Input-Output Norms (SION) which cover only simple garments
generally exported but for which the norms need to be amended with utmost speed
and understanding to provide for special types of garments on the basis of samples
received from overseas buyers. It needs to be emphasised that such garments
command a high unit value and that is precisely what we should concentrate on
since there is stiff, cut-throat competition from neighbouring countries on
the "bread and butter" simple garments iv) Officials administering
the export import policy and/or grant of refunds even today adopt more of a
restrictive/regulatory attitude rather than that of an export facilitator. In
fact with globalisation, the mindset of the officials administering the policy
must necessarily change from an export regulator to an export facilitator.
It is essential for India, if it is to forge ahead
in world garment export trade, to move away from the bread and butter simple
garments to those that command a higher unit value. For this purpose, the administrators
have to be quick and flexible in amending the SION to suit the particular export
order. Instances have come to light where the use of Lycra in a garment has
held up the benefit of drawback to the exporter merely since the footnote to
the schedule does not include Lycra. It was only with consistent follow up by
CMAI and explaining to the authorities that the use of Lycra has not changed
the basic quality of the garment that the drawback was finally granted after
a lapse of almost one year. Who will bear the interest loss? Can the exporter
be expected to enter into a similar contract in future or for that matter, even
accept the existing contract with an enhanced volume?
A similar case is that of a patch garment having as
many as 15 to 17 patches in various parts of the garment. SION does not provide
for this and the exporters has to run from pillar to post to have SION amended
to enable him to complete production on time. All such delays and inflexible
attitudes cost money, besides the possibility of a missed delivery schedule.
In both the above cases, the unit values were extremely
high. This is where globalisation is not only for the industry but also for
government officials to respond quickly and efficiently with understanding.
Even with all the simplifications in the Exim policy, transaction costs to an
Indian exporter yet vary between 3 per cent and 10 per cent of export revenues.
(To be continued)
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